“What have you been wrong about?
Not little stuff, like who is going to win a football competition or an election. Big things?”
My elder son had received his exam results from the recent COVID disrupted examination season. They were what my father might have described as “character building”.
The exams had been scheduled, then postponed, as COVID ran through the school faster than one of my culinary “Dadsasters”.
First one class. Then a second. Within days, nearly 500 students and teachers had been banished to self-isolate at home for a fortnight.
Informed in writing that their exams were rescheduled after the Christmas holidays.
Ambushed upon their return in early December, with a full set of exams and no warning.
The results were underwhelming. Year group average marks below 50% in almost all subjects.
My son had felt he was across the subject matter. Believed he had done okay in the exams.
He was mistaken.
The experience had shaken his confidence.
Further undermined any belief that the school had his best interests at heart. Like the way they outlawed wearing masks or opening windows in non-socially distanced classrooms. Yet insisted masks be worn in corridors and stairwells, and lunch be eaten outside in the rain.
My son had made a risk-based judgement.
Bet that by cramming for his exams he could achieve an acceptable set of grades.
Staying on top of his classwork would have been the safer choice. Mitigating the risk posed by an impromptu exam.
His bet did not pay off. Derailed by an externality. A cascade of risks he had not foreseen.
A brutal lesson that can only be learned the hard way. Hopefully, a lesson learned the first time.
I thought about my son’s question. What big things had I been wrong about?
What might constitute a “big thing”? Career? Homeownership? Living location? Marriage? Migration? Parenthood? Running a business? None are things I regret, but I would be lying if I said there hadn’t been moments when I found myself questioning my choices about every single one of them.
There were many things I had been wrong about over the years. Accountability. All-inclusive vacations. Big 4 firms. Bitcoin. Common sense. Competence. Financial services industry regulation. London property prices. Loneliness. Meritocracy. Social media. Taxation.
To keep the conversation relevant, I told him about my choice of secondary school long ago.
As an unconfident eleven-year-old, I had prioritised the familiar over educational quality, opting to attend the local state school near my parent’s house. Years later, when our university entrance exam marks were issued, my choice of school carried with it a double-digit standardised mark penalty.
Not an issue for those who had majored in the school’s vocational specialities of dealing drugs, stealing cars, and teenage pregnancy.
However, for those few academically minded students, that penalty meant gaining admission to fields of study such as medicine, law, engineering, or actuarial science was an impossible dream.
My choice of school had been a mistake, but my reasons for selecting it was a much larger one.
By the time I finished university, I had kept in touch with only a couple of former school friends. None of whom were the people I had been so afraid of leaving behind a decade earlier.
The others hadn’t cared about me. Nor I, them. Not really.
We had simply been acquaintances of convenience. No different from the colleagues I would regularly socialise with after work during a client project, then never spare a second thought about once I moved on to the next job.
Making life decisions based upon a desire to run with the herd, or gain the approval of others, had been foolish. Something “big” that I had been wrong about.
A couple of days later, I read two different blog posts where the authors freely conceded they lacked any credible form of “alpha” needed to outperform the market.
The ability to move markets.
Proprietary technology that gave them a proven edge, either in execution or opportunity identification.
Yet both persisted, unsuccessfully, with attempting to pick winners and time the market. I couldn’t help but admire their conviction, faith, and perseverance.
Their results were mixed.
One slightly underperformed their chosen benchmark. Much time invested for little financial reward, but they had fun along the way.
The other continuously tinkered with their portfolio, until they panicked and exited the market entirely. Watching helplessly as the NASDAQ surged 33% upwards and the S&P500 grew 23%, while their vast pile of cash languished on the sidelines, generating little more than platform fees and regret. Only history can tell whether they were wrong or just early, but either way the pain they felt today was real.
Each of the authors had a blind spot.
Something they were wrong about.
Something they danced around. Justified. Rationalised away.
Yet the blind spot remained. Behaviours inconsistent with stated outcomes.
I thought about my own financial blind spots. Some were obvious and familiar, like old friends.
My living location with its eye-watering rent bill? Check.
My dysfunctional financial relationship with my lady wife? Indubitably.
My reluctance to trade tax efficiency for the psychological comforts of an engineered regular pay cheque constructed from passive income? Indeed.
Those were all weaknesses it was true. Behaviours inconsistent with my stated goal of leading a financially independent lifestyle reliably funded by my investment portfolio’s free cash flows.
Weaknesses I was conscious of.
Weaknesses I factored into my thinking.
Weaknesses I managed. Mitigated. Worked around.
That got me wondering about the financial blind spots I was unconscious of. We all have them.
What “big thing(s)” was I wrong about?
Unlike the rigorous discipline and well-formed habits proclaimed by many personal finance bloggers, my investing approach could be kindly described as sporadic and haphazard.
Every now and again I will muster some enthusiasm and research an opportunity. If the numbers appear to stack up, I will buy it. A property. Some shares. Very occasionally, a business.
I establish processes to manage and monitor the investment, before quickly losing interest and returning to doing battle with the troublesome cats, playing with my kids, or writing random blog posts.
These bursts of enthusiasm are fleeting. Rarely occurring more than once or twice a year.
This approach has resulted in me being a “buy and hold” investor by default rather than by design.
Apathy preserving the status quo. Change requires decision making and effort!
My timescales are long term.
Transaction costs are kept minimal.
I pay just enough attention to ensure I am not being ripped off, and to avoid falling victim to the ever-changing whims of the vampiric tax authorities who are forever trying to pick my pocket.
For the most part however, my investments operate in “set and forget” mode.
This approach has worked out pretty well over the years. Each additional investment boosting the capacity of my perpetual money-making machine to generate free cash flows.
However, it has also left me with a slightly skewed perspective. A blind spot. I might be competent at identifying buying opportunities, but my skills for working out when to sell are underdeveloped.
I evaluate stocks and funds based upon their total returns. Yet I consume only their dividend income.
Property investments are selected based on their prospects for achieving significant capital growth. But I consume only the net rental income, after accounting for financing and operating costs.
Capital gains often form the lion’s share of an investment’s long term returns. Yet the notion of selling off an income-producing asset leaves me feeling colder than a mother-in-law’s kiss.
The big financial thing I have been wrong about? Capital gains.
Once I realised this, I couldn’t help but laugh at how blind I had been. It isn’t as though capital gains were some arcane secret, or a financial topic exclusively reserved for rich or sophisticated investors!
Governments influence our investment decisions and asset allocations more than we care to admit.
Weaving a complex web of incentives, social policy, subsidies, and taxes to constantly manipulate our behaviours, like a puppet master controlling a fairground marionette.
Realising capital gains is a behaviour that governments strongly seek to encourage.
In Australia, capital gains on assets owned for more than a year are taxed at half the rate of income.
Meanwhile, the United Kingdom taxes capital gains at the same rate as minimum wage earners, with entrepreneurs paying even less. Residential property investment gains are subject to a 8% surcharge, which stings a bit, until investors realise their gains are taxed at a lower rate than most white-collar professional salaries.
Embracing capital gains is even further incentivised when an investor utilises tax-advantaged accounts, allowing tax that may otherwise fall due to be postponed or eliminated entirely.
It isn’t just governments who have encouraged the realisation of capital gains. Those FIRE seekers who evangelise about applying various “safe” withdrawal rates to fund their financial independence rely heavily upon them. Any gap between an investment portfolio’s natural yield and the investor’s preferred withdrawal rate is met via selling down assets and (hopefully) realising capital gains.
I won’t pretend that capital growth is a blinding revelation, nor that I have never realised a capital gain when selling an investment for a higher price than I paid for it. However, my general approach has been to sell by exception, and then only when there is a compelling reason to do so.
Changing demographics. Emerging structural issues. Losing competitive advantage. Management incompetence. Takeovers. Tax regimes. Technical obsolescence. The list of triggers has been brief, yet varied.
Despite the huge differences in taxation treatment of income and capital gains, the idea of parting with an income producing asset pains me.
Which, when viewed objectively, is irrational. A big mistake.
Opportunity cost analysis may identify a more optimal asset to invest the funds in.
Externalities might change the investing landscape, requiring to a revised approach.
Stage of life should also play a part.
Statistically speaking, I am probably closer to the finishing line of life’s journey than the beginning. Our wealth accumulation phase (i.e. earn, save, and invest) is designed to build up our net worth to comfortably support our lifestyles for the remainder of our lifes. Once we’ve passed that notional peak, it makes sense to have done the thinking about our deaccumulation phase (i.e. sell, spend, and enjoy).
Failure to do so might lead to some big mistakes. Holding investments long past their prime. Being overly frugal. Missing opportunities. Wasting time. Working longer and harder than is necessary.
Failing to include realising capital gains into my thinking has been an investing blind spot.
Something big that I have been wrong about.
That doesn’t mean I will change my approach of buying and holding assets forever, then living off their natural yield. But I should at least consider the alternatives. The results may be a pleasant surprise. If not, then at least I will be making better informed investing decisions.
What big things have you been wrong about?
- Australian Taxation Office (2021), ‘Capital Gains Tax‘
- Gov.uk (2021), ‘Capital Gains Tax‘
- Gov.uk (2021), ‘Income Tax rates and Personal Allowances‘
- HM Revenue & Customs (2020), ‘HS275 Entrepreneurs’ Relief (2019)‘
- Office of National Statistics (2021), ‘Average actual weekly hours of work for full-time workers (seasonally adjusted)‘
- Office of National Statistics (2021), ‘Average household income, UK: financial year 2020‘
- The Money Advice Service (2021), ‘National Minimum Wage‘